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Does OPEC still set oil prices?

(Note: all the sources
listed in the "Balanced" section)

It is well known that energy production in North America has grown in recent years in response to advances in technology. In fact, some energy leaders are now projecting that North America will be a net exporter of energy by the year 2020. North America’s gain means a decreased importance for Saudi Arabia and other OPEC countries. Currently, OPEC supplies 40% of the world’s oil and announced changes in production volumes have an immediate effect on oil prices. But, does OPEC still have enough influence to set pricing by controlling production output? A strong OPEC able to set prices would mean higher energy prices and that would be bullish for all energy producers. A weak OPEC could mean lower prices and a bearish signal for owners of energy stocks. 1, 2

Why OPEC may
remain the price setter:

OPEC action still
moves short-term energy prices. It is all good and well to talk about changes in market share and supply levels. However, a look at short-term oil price movements shows a strong correlation to comments being made by OPEC. OPEC minister comments are easy to understand and can be quickly categorized as good or bad for oil prices. As recently as November 13 of this year, oil prices rose almost 1% simply on indications that OPEC may be discussing an output reduction. 6

OPEC and Russia are
working more closely. With Russia’s increased role in the oil market, its ability to influence prices has increased. By itself, it has only a modest impact on world supply. However, combined with OPEC, it could yield significant influence. Historically, Russia has only made token gestures towards cooperating with OPEC. However, Russia recently has shown increased interest in coordinating production cuts with OPEC. Whether or not Russia follows through with production cut threats remains to be seen, but the thought that OPEC and Russia are working in tandem could have a significant impact on oil prices. 7

OPEC is still the lowest
cost oil. Recent attempts by OPEC to raise oil prices by cutting production have not been as successful as OPEC expected they would be. When OPEC pushed oil prices to $90 per barrel, US producers responded by expanding production, creating areas of production such as the Bakken play. Increased investment led to improved efficiencies as companies experimented with differing fracking stages and materials. Oil that could be produced at $70 per barrel became oil that could be produced at $50 per barrel. OPEC responded by increasing production, driving oil prices down to a point that choked out many domestic producers. It could do that because OPEC members can produce oil at prices below that of other countries. Analysts may talk about OPEC nation budgets and the need to have higher oil prices. However, the fact remains that if OPEC wants to drive out non-OPEC competition, it can. It may not be able to do that at prices above $70 per barrel, but it certainly can do that at prices below $50 per barrel. 8

OPEC
still claims more than 80% of the world’s crude oil reserves. Not only does OPEC have the lowest cost oil
production, it has most of the world’s oil supply. OPEC nations will still be
producing oil long after US producers have used up supply made profitably by
technological advances. As such, OPEC can afford to play a waiting game – step
in to cut production when oil prices are low and push out competition and then
open the spigots when prices have improved. Central decision making means
operations are less contingent on near-term economics and more influenced by
long-term strategy. 9

Why OPEC may no
longer set the price of oil:

Horizontal drilling
and fracking have made the US a major energy producer. The boom in domestic production can be largely attributed to technological improvements that have lowered the cost of production of oil disproportionately benefiting the US. This is not because the United States is unique in having shale deposits. Nor is the US unique in attempting to stimulate production through horizontal drilling and fracking. That said, other countries are not having the success of the United States for a variety of regulatory and technical reasons. 3

The rise and fall of non-OPEC
production can be directly tied to changes in oil prices. A quick look at non-OPEC production shows an inverse correlation to oil prices. What’s more, production changes seem to lead oil prices by six-to-twelve months. When non-OPEC production rises, oil prices inevitably fall. Such was the case when production rose in 2013-2015 leading to a sharp crash in oil prices in 2014-2016. When production came to a halt in 2016-17, oil prices began a steady climb in response. Clearly, an argument can be made that non-OPEC production has become the swing factor that now sets energy price levels. If that is the case, this could have negative implications for future oil prices. Current production levels for non-OPEC production have now surpassed levels reached in 2014-2016, making investors wonder if another oil price crash could be right around the corner. 4

The
new energy trade war is now between the United States and Russia. Now that the United States has increased energy
production and the ability to export production, it has the potential to change
traditional political-economic balances. This is especially true of natural
gas, where several US companies are shipping liquified natural gas to European
countries, but also true of oil. Russia is not sitting still. In recent years,
Russia has made significant infrastructure investments to facilitate the shipment
of oil and natural gas to Europe. 5

It’s All About Timing. Whether or not OPEC has a role in setting oil prices may depend on the time frame being viewed. Clearly, OPEC action affects short-term pricing as traders move in and out of positions. From a longer-term perspective (perhaps one to five years) domestic producers seem to be the ones cutting or increasing production and thus impacting prices. In the long run, OPECS large reserves and low cost of production will ultimately set the price paid for energy.